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(Photo credit: TaxCredits.net)

Other than monetary policy, no area of economic discussion is more confused than the one about government spending and budget deficits. Without defending heavy government spending for even a second, most everything readers are presented with about spending and deficits is embarrassingly wrong.

There are countless articles to point to as exhibits, but two recent ones crystalized the confusion. Addressing President Obama’s “fiscal cliff” dealings, it was written that “he put no force behind solutions to the actual crisis facing our country, which is the hemorrhagic spending that threatens our future.” Writing about the upcoming elections last fall, another column observed that the next president “may well suffer the Herbert Hoover-George Bush fate of being tarred in history with an economic cataclysm decades in the making. The disjointment between our spending and revenues is just that serious.”

Back to reality, it must be stressed that applied to our present economic situation, whether government spending is in deficit, balanced, or in surplus is immaterial. Looking at deficits, a dollar is a dollar is a dollar, so whether the burden that is government is financed by incoming revenues or through borrowing is to make a distinction without a difference. The shame is the spending itself. When governments spend they’re by definition extracting limited capital from the private sector, so the problem is the spending, not how the spending is made possible.

Thinking about the above, it shouldn’t bother us that we have a $1 trillion dollar deficit, rather it should horrify us that our federal government allegedly constrained by a Constitution that enumerates few and defined powers to it collects $2.5 trillion per year. What the latter number signals to us is that our federal government collects way too much in the way of revenues, and in spending those funds plus $1 trillion, that it’s foisting a cruel austerity on us. Yes, austerity. Not asked enough is what we’ve lost for the federal government annually consuming so much capital that, if left in the private sector, would support real economic activity (more Microsofts, Intels and Googles) that actually enriches us.

Thinking about the previous paragraph some more, would readers prefer a balanced, $2.5 trillion budget, or a $500 billion annual deficit on $600 billion in total spending? From an economic perspective the answer is pretty obvious, and it would be the latter scenario. Indeed, even the most ardent worshippers of big government would have trouble asserting that the Departments of Commerce, Energy and Labor add more to the economy than do Apple, Walmart, and Cisco Systems. Heavy government spending, whether through revenue collection or deficit financing means less capital for the companies that employ us, enhance our lives, and that we own as direct shareholders or through mutual funds and pension funds.

That deficits are exploited as signals of looming Armageddon is curious, and also easy to dismiss. The best thing to do is to go through the various objections to deficits one by one.

The most commonly abused assumption is that our budget deficits signal a nation that is “broke” or “bankrupt.” Pundits are prone to say that thanks to our deficits, “we can’t afford” various government programs. If only that were true. More realistically, and as evidenced by the U.S. Treasury’s ability to raise trillions from investors, we’re not broke, and as a result the burden that is government grows. The brutal paradox is that Washington can deficit spend precisely because the markets do not think we’re Greece. Conversely, if we were Greece and headed for an “economic cataclysm” as pundits like to tell us, we couldn’t deficit spend.

Taking the Greece angle further, those who say we’re not Greece say we will be if we don’t reduce our spending and deficits. Implicit in this reasoning is that tragedy awaits us when we become Greece. Really? Why?

Indeed, if spending and deficits are the problem, why would a scenario in which our government could no longer spend either in surplus or deficit be so bad? Greece’s fiscal situation apparently means its government is going to have to cut back. Applied to the U.S., and assuming a “debt crisis”, such a scenario would be undeniably good for our economy for the feds spending less, and the private sector keeping more; that is, unless you’re willfully blind and think Bridges to Nowhere and new hospitals in Afghanistan are better for our economy than the creation of future ExxonMobils and Procter & Gambles.

In response, some might say that since U.S. Treasury rates serve as interest rate benchmarks, if our federal government runs into financial trouble then interest rates will rise for all borrowers. That’s a nice thought, but also false. Indeed, the State of California is said to have a major debt problem, but does anyone think for a second that Apple or Occidental Petroleum would pay higher rates of interest on debt solely for operating in a state run by a profligate government? Going back to Greece, it as we know is in trouble at the moment, but if Apple were to move its headquarters there, can anyone say with a straight face that it would suffer financing difficulties in the way that its government is?

To this the deficit worriers might respond that “if our government defaults, a financial crisis awaits.” Really, for whom? No doubt money managers exposed to Treasuries would suffer, but only insofar as they are not diversified. Higher interest rates? See above. Currency devaluation is the scariest scenario of all, in the currency sense we're already in default, but if it were to persist, American companies would do as non-American companies already do and finance their activities in money that markets actually trust. The real "crisis" here would be that our federal government, having defaulted on monies owed, would face higher costs of borrowing. If so, then far from a crisis we’d surely benefit from a federal default. Investors in our debt would be burned, and for having been burned they’d be less likely to invest in government debt. Less money for government, more for the profit-disciplined private sector. In short, the opposite of a financial crisis.

Despite this, we still hear from deficit-scared pundits on the right that our deficits signal a horrifying crack-up in our future. How sad, and it’s sad for telling us that these same pundits don’t believe their own rhetoric. Indeed, the right (I’m on the far end of the right spectrum – libertarian) talk a good – and correct – game about how government spending doesn’t make us better off; that it makes us worse off. That’s so true, and because it is, why should we fear a future in which our government will be put on a diet? Far from an “economic cataclysm”, the day when our government is forced to spend less is the day we’re made progressively more free.

Along the lines of the above, some contend about deficits that so big are they, that thirty years from now our children and grandchildren’s taxes will only be enough to cover interest on the debt. The latter is probably a reach, but if so, can someone freeze me so that I can hibernate for 30 years? Indeed, how nice it would be to re-enter a U.S. where rather than wasting limited funds on democratizing the Middle East, studying the migratory patterns of bats in Austin, or employing millions of Americans in work that smothers their potential, the federal government would be so tapped financially such that it could only pay interest on debt. Wouldn’t we be much better off than we are today at a time when the feds have access to trillions with which they can do serious damage? Lest the right forget its own rhetoric, government spending is mostly harmful.

And then when deficit worriers aren’t shaking over interest paid on debt, they love to trot out the absurdity that “we’re burdening our children and grandchildren with our prodigality.” Rarely have so few words been so pregnant with so much misunderstanding.

For one, implicit in the above line is that we in the present are living high on the hog and leaving future generations the bill. Nothing could be more incorrect. In truth, all the spending of today is OUR burden for the economy performing at a much slower clip thanks to the political class extracting limited capital from the economy only to spend it in ways that make us worse off. Government spending is our economic ball and chain.

Considering future generations, they’re lucky in that if what the worriers foretell is true, interest payments will gobble up limited federal revenues at which point the federal government will no longer be a source of employment for so many Americans, will no longer wreck the lives of other Americans with programs that make them dependent on handouts, plus our military will no longer have bases in 175 countries around the world. Assuming spending and deficits today wreck the ability of the federal government to spend irresponsibly tomorrow, we’ll be doing future generations a favor.

As for the bill they’ll be handed, that’s not the burden. In truth, the burden left on future generations will be a much less evolved economy in terms of technology, the ability to cure fatal diseases, and the ability to employ them in as specialized a manner as possible. Deficits can be financed as we all know, but growth lost is just that. Future generations will inherit a less evolved economy because we let politicians from both political parties waste so much of our growth capital. Sorry, but the latter’s true. If readers disagree, please find me an example of a vibrant company that became that way without investment.

Lastly, deficit worriers love to bring up how we owe $16 trillion, or $100 trillion, or $200 trillion, and that this will wreck us. Once again, no it won’t. It will only wreck the ability of future governments to borrow and spend, along with the investment returns of those left holding debt that deficit worriers have for decades been telling us is worthless. California’s financial troubles aren’t impacting Apple’s ability to borrow, and just the same, federal indebtedness will if anything make well run companies in the U.S. even more attractive relative to the federal government if the worriers are correct.

Put simply, if the deficit worriers are right, then the future is bright. Having run up massive debts that the worriers are ever certain can’t be repaid, the federal government will not be able to borrow more money in the future. In short, our naivete about the good of federal spending and deficits ensures that future generations won’t have to suffer in the way we are today.